Economic transformation
We all had different names for the three decades from 1950 to 1980. For America it was the ‘dream’, and for Germany the ‘economic miracle’, while the French called it ‘the 30 glorious years’. There was no such headline for the British but their rulers – politicians and bureaucrats alike – thought of it as managing decline. This was retreat from empire and economic power.
GDP and income growth
The period was underpinned by regular economic growth, measured by a concept developed in the 1930s but only put into practice after the war. This was GDP, and an attempt to value the entire output of a nation – food, manufactures and services – and its increase from year to year.
The existence of the ‘other’ – the Soviet Union – ensured that that growth would benefit the workers as much as the rich. This was in contradiction to Victorian economic norms for the race was to show that capitalism could supply both guns and butter and, equally important, distribute the butter fast and fairly.
The time was ripe for a competitive yardstick such as GDP. The first world war, followed by the great depression, had left most people not much better off than at the start of the century, despite the vast technological changes that had taken place, such as the development of electrical and oil power.
These then were the years when the oil revolution finally took place; every family with a home, and exciting labour saving appliances, every garage with a car, annual family holidays, university education opening up, and plenty of jobs as new industries took the place of old.
The new economics
So political economy quickly mutated into economics, or even growth economics, and many well-paid jobs in academia, government and the stock market appeared. Naturally, those who had helped win the wars – both hot and cold – reckoned that planning was the key, and that economics was the tool that would allow resources to be correctly allocated, and economic growth guided and controlled.
And with such an important role, economics as a profession needed to become more rigorous – more like physics with its algorithms and less like historical analysis or a social science. But to make the maths work, it was also necessary to assume away much of the complexity of real life; infamously as economic actors, humans had to be economically rational and lack the normal emotions of greed, fear, anger or envy.
Victorian economists had assumed that the functions of the rich were to accumulate capital for their own purposes – whether for power or survival – and not to improve poverty or society. Malthusian theories assumed that although society might get richer, population growth would ensure that poverty would remain – this is why it became known as the dismal science. People did, in fact get richer as economies grew, but economists could not understand why.
However, resource constraints were forgotten in the heady days of perpetual growth. And so were issues that concerned those early political economists, such as monopoly power, the role of the rentier or banker, the price of land and other resources, as well as price fixing and cartels. However true of real life, they were too difficult to fit into the algebra.
Reappearance of reality
They certainly reappeared in the 1970s. The six days war, a quadrupled price of oil, and the appearance of Opec (Organisation of Petroleum Exporting Countries) showed that humanity had yet to meet the vision of the new economists. And double-digit inflation was difficult to reconcile with theory, and even more difficult to eliminate. Though the 1970s should have shown up the weakness of perpetual growth theory, it was rescued by the arrival of the digital revolution, the collapse of the Soviet Union, and the entry into the capitalist system of China.
And so the disaster of 2007 was unexpected, and remains unexplained by current economic theory. It was the American economist James Galbraith who torpedoed the simplicity of the new economics when he wrote, “Politics is not the art of the possible. It consists in choosing between the disastrous and the unpalatable.”
Presidential candidate Hillary Clinton is aware of the need for reforming shareholder capitalism, since the level of US investment is at its lowest since 1947. Healthy corporate profits and a near zero cost of capital should be the time to plan for the future. It is today’s investments that produce tomorrow’s dividends. But it seems that companies prefer dividends today. For every dollar the top US public companies spend on investment, they are returning eight or nine dollars to shareholders.
To quote the Financial Times, “Corporate America is stuck in a self-fulfilling pessimism. As long as it believes US growth will not exceed roughly 2 per
cent a year, it will not bet on future expansion, which delivers what it fears. In an ideal world, the US public sector would compensate for private sector saving by running fiscal deficits. But that is a political impossibility,” as is the solution to the eurozone problems.
Germany’s permanent surplus
German economic theory (ordoliberalism) has so far avoided the excesses of Anglo-Saxon capitalism of fraud and price-fixing, though not of industrial concentration. But German success has also bred complacency, while ignoring lessons both of Victorian economic theory and the structure of GDP.
The basic Franco-German deal on the EU was food exports for France through the Common Agricultural Policy, and a free trade zone for German manufactures. Over time, an economic centre benefits from greater order and efficiency, and this in turn leads to increasing or diminishing returns on investment. Within the eurozone, for instance, it is ludicrous that Belgium exports lettuce, and Holland flowers and soft fruits, in competition with naturally sunny Mediterranean countries. And now French farmers are protesting the success of German farmers within France itself because of their cheap Eastern workers.
The structure of the eurozone keeps the euro cheap in competitive terms, compared to the efficiency of its Northern members such as Germany, Benelux, Denmark and increasingly Poland. And the structure of any economic system requires balance – your surplus must mean my deficit. But German public opinion has an abiding fear of debt, not surprising in view of German history, and politicians cannot run budget deficits, even for infrastructure projects, and certainly not for bailing out Club Med countries.
Where next?
Investors, just as much as politicians, are confronted by Galbraith’s choice between the unpalatable and the disastrous. The new normal may well turn out to be a rerun of the first great depression that took place during the last three decades of the 19th century. Populations got richer, new industries were created, jobs were available but no one felt optimistic or prosperous.
That seems to be the attitude of ‘big business’ today, and while an electrical and oil-based economy created plenty of new jobs, the digital information revolution seems to be better at destruction than creation. Bond markets are the playthings of politicians, while index-linked equity funds are unattractive in a world where economic growth is no longer perpetual.
But there are opportunities within the equity market. Royal Dutch Shell currently yields 7 per cent annually on dividends, and whatever the problems of the oil price, neither Shell nor an oil-based economy are likely to disappear in the next 10 years. And as research always shows, it is the accumulation of dividends over the years that results in capital growth, and 7 per cent compounded over ten years will give any investor a worthwhile return.
So investors should look for investment managers who are modest, clever and patient. These are more likely to be found among the investment trust community, than the unit trust, ETF or hedge fund markets.
